What is CAGR Full Form in Mutual Fund & Formula?
Have you ever stumbled across the term CAGR and wondered, "What does CAGR full form in Mutual Funds mean?" If yes, this blog carries all the answers regarding CAGR meaning, how to calculate it and how this tool can be helpful for you.
Also, by learning how to calculate CAGR formula you can learn how much earnings you can make on your annual investments.
Let's start with learning the CAGR full form in mutual fund.
What is CAGR in Mutual Funds?
The CAGR full form in mutual funds stands for “Compounded Annual Growth Rate”. Think of it as a road trip, you start from point A and want to reach point B. There are times when you experience different speeds, the speed could be slow when you are in traffic and it could be fast when you are on the express highway.
But when you look back at the journey you calculate the average speed for the entire trip. CAGR full form compound annual growth rate works in the same way for investment. This tool gives you a clear idea of how much your investment grew when there were ups and downs in the market.
Discover Financial Term: What is NAV in Mutual Fund? Guide for Beginners
How does a Compounded Annual Growth Rate Work?
You invested your initial amount of Rs.1,00,000 five years ago in a mutual fund and now it has grown to Rs.1,80,000. While knowing the overall gain is helpful, “Did you think about how much your investment has grown each year? “ That is where CAGR meaning compound annual growth rate comes in.
This tool is very useful in providing a rate of growth of an investment during a year. CAGR full form of Compound annual growth rate allows you to go deeper into the metrics' constant ups and downs to focus on long-term growth.
As you have understood how this tool works, let's learn the formula to calculate CAGR.
What is the Formula and How to Calculate CAGR?
The compound annual growth rate formula in mutual funds is calculated with the below formula:
CAGR = (Ending value/beginning balance) 1/n – 1
Here is a breakdown of the compound annual growth rate:
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Ending Value
This indicates the appreciated value of the investment after the investment period has ended. This includes capital gain, reinvested dividends and earned interest over time.
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Beginning Value
The amount that was invested at the start of the investment is known as the beginning value. This is the base value subjected to growth, earnings and reinvestments.
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N (Number of years)
This indicates the duration of the investment in years. The amount reflects the period over which the investment was made and is necessary for determining the correct annualized growth rate.
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Uses of CAGR in Mutual Funds
There are several applications of the compound annual growth rate (CAGR):
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Performance Comparison
CAGR full form in mutual fund is compound annual growth rate gives a normalized metric to compare the performance of various investments over a given time frame. It enables investors to compare investments on the same basis, taking into account the average growth rate per year instead of absolute figures.
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Long-term Planning
CAGR is a useful formula that helps you in long-term investment planning by being close to the possible growth of an investment over the period. It helps investors to predict the future value of their investments and make decisions considering the projected average annual growth rate.
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Risk Measurement
CAGR can be used to measure the risk involved in an investment. If an investment has a positive CAGR over a while, then it means there is a more stable and consistent growth rate, which would appeal to cautious investors.
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Performance Measurement
CAGR allows investors to measure the past performance of their investments. Comparing the CAGR of their investments with benchmark indices or industry averages, investors can determine how effective their investment strategies are and where they can improve.
Even if you know the uses of this tool, let's see how these uses would benefit you in your investment journey.
What are the Benefits of CAGR in Mutual Funds?
To measure an investment’s profitability and determine how well an organization has performed on average over time, its compound annual growth ratio is often used. The advantages of using a compound annual growth rate are as follows:
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CAGR considers all underlying variables
The short-term compound annual growth rate takes into account all underlying variables, like prevailing market conditions that affect the performance of such investments.
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CAGR rules out short-term deviations
While considering compound annual growth rate over longer periods, all short-term deviations are ruled out. This is because the market quickly recovers from shocks and allows people to examine the real opportunities that multiple firms offer.
Smart Investments, Bigger Returns
Did you know CAGR could be calculated on an Excel sheet so that your calculation becomes easy? Let's see how you can do that.
How to Calculate CAGR Formula in Excel?
There is no direct way to calculate the CAGR formula in Excel but still, you can calculate it using basic functions like:
(Note: C1 is the Number of years, A1 is the beginning value and B1 is the ending value.)
- RRI function: =RRI(C1, A1, B1)
- IRR function: =IRR(A1:A6)
- RATE function: =RATE(C1, , -A1, B1)
- POWER function: =POWER((B1/A1), 1/C1)-1
These functions will make it easy to calculate CAGR for multiple investments quickly.
However, it is very important to know how this tool can help you and what its uses are.
Let's understand the common mistakes to avoid in calculating CAGR.
Common Mistakes to Avoid in Calculating CAGR
Here are some common precautions you can take while calculating CAGR to avoid making mistakes:
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Incorrect Use of Time Frame
CAGR relies on the number of years (n) that the investment was made for. Applying a wrong period like months instead of years, will produce misleading results. To avoid this always include the exact number of years from the beginning and ending dates of your investment. -
Overlooking Dividends and Side Investments
CAGR only takes into consideration the growth of an original investment but excludes dividends, reinvestments, or regular contributions. To avoid this if dividends are being reinvested, utilize XIRR in place of compounded annual growth rate to derive a better return. -
Assuming CAGR Represents Market Fluctuations
CAGR provides a smoothed average annual growth rate but not the actual fluctuation in returns. To avoid this observe standard deviation, drawdowns and risk statistics to realize true fluctuations. -
Comparing CAGR Over Various Periods
It is not possible to compare a 3-year CAGR and a 10-year CAGR because they cover different market conditions. To avoid this it is always better to compare CAGR over the same duration for a valid analysis. -
Not Accounting for Inflation
Not accounting for inflation might inflate real returns. A fund with 10% CAGR can provide only 5-6% real returns after adjusting for inflation. To avoid this subtract the inflation rate from CAGR to obtain the real return. -
Using CAGR for SIP Investments
CAGR is applicable for lump sum investments, but SIP consists of several investments at various times. To avoid this use XIRR for SIPs rather than CAGR. -
Not Converting to Percentage
CAGR formulas in Excel give a decimal result like 0.125 rather than 12.5%. To avoid this multiply by 100 or change the cell format to percentage.
If you are here that means you now know almost everything about compound annual growth return and how to use it. Lets conclude this blog.
Conclusion
In short, CAGR full form of compound annual growth rate is an important tool that can help analyze your SIP investments. It provides a standardized way to compare the performance of different investment options and makes decisions about where to put money for beginners as well as expert investors. Hence, now you know how to calculate the average annual return for your mutual fund.
Frequently Asked Questions on CAGR
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What is the best CAGR in mutual funds?
The top 3 high return mutual funds in India right now are:
| Name | AUM (in Cr.) | CAGR 3Y (%) |
|---|---|---|
| Motilal Oswal Midcap Fund | 20,055.68 | 32.57 |
| HDFC Mid-Cap Opportunities Fund | 77,682.90 | 25.51 |
| Edelweiss Mid Cap Fund | 7,677.01 | 24.41 |
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What is a good CAGR?
A good CAGR means your investment value is increasing with an annual return of 10-15%. -
What is a Bad CAGR?
A bad CAGR means your investment value is decreasing over time. A return below 7% is considered a bad CAGR. -
What is the difference between CAGR and XIRR?
CAGR and XIRR are both ways to measure investment returns. CAGR is a simple metric that assumes a steady growth rate while XIRR is more complex and considers the timing of cash flows.
